Emerging Market Debt Gets Complex, Risks Rise

Emerging markets are grappling with increasingly complex debt structures, a trend that advisory firm Lazard warns could escalate borrowing costs and hinder debt restructurings. Since 2020, a proliferation of intricate debt, from collateralized loans to bonds tied to economic performance, has emerged. This shift is particularly pronounced in riskier "frontier" economies.

Lazard's managing director, Pierre Cailleteau, emphasized the urgent need for simplification, stating that countries will ultimately bear the cost of this complexity. Examples include Zambia's debt linked to sustainability improvements and Angola, Nigeria, and Senegal utilizing total return swaps.

These complex instruments, often opaque and complicated as noted by the IMF, pose significant challenges. Uncertainty surrounding preferred creditor status for multilateral lenders further complicates the debt landscape. Cailleteau highlighted that the combination of unclear claim hierarchies and contingent instruments makes debt analysis difficult for creditors.

To mitigate these risks, Lazard advocates for mandatory debt transparency, suggesting it should be a prerequisite for accessing financing from the IMF and other multilateral development banks. The firm notes that investor premiums on emerging market debt are near record lows, potentially indicating an "exuberance" that underprices the inherent risks.